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Market Wrap

Beige Blues

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        08-08-2001        High      Low     Volume Advance/Decline
DJIA    10293.50 -165.24 10479.64 10267.97 1.11 bln   1193/1885	
NASDAQ   1966.36 - 61.43  2038.64  1958.67 1.64 bln   1224/2447
S&P 100   607.53 - 11.18   619.86   606.36   totals   2417/4332
S&P 500  1183.53 - 20.87  1206.79  1181.27           
RUS 2000  472.62 -  7.71   481.73   471.54
DJ TRANS 2882.04 - 39.42  2931.05  2876.98
VIX        24.36 +  1.71    24.62    22.54
Put/Call Ratio      0.55

Beige Blues

Cisco's (NASDAQ:CSCO) report didn't do much to inspire the bulls. But the Fed's Beige book certainly piqued the interest of the bears. Make it four in a row for the Nasdaq.

Cisco's conference call Tuesday night and its CEO's subsequent appearance on CNBC did little in the way to appease market participants. The company delivered results that were dismal and offered guidance that was equally dismal. Bulls had been betting on Cisco to deliver the catalyst that would perpetuate the Nasdaq's advance up through last week. OI was in on that bet, playing Cisco last week as it advanced above the $20 level. But the company's failure to deliver the proverbial shot in the arm to the tech sector resulted in a loss of bids Wednesday. In addition, analysts across the Street who'd been itching to upgrade the stock instead opted for reducing future revenue and earnings estimates. The ramifications of Cisco's failure to deliver were spread from shares of its suppliers such as Xilinx (NASDAQ:XLNX) to its competitors such as Lucent (NYSE:LU) and Nortel (NYSE:NT). Referring to the latter, Cisco chief, John Chambers, made it clear that his company was flush with cash and steadily taking market share from its competitors, which makes Cisco a long-term winner. In the meantime, the consensus among market participants is that there's no real compelling reason to buy the stock at current levels.

The market's inability to hold onto its gains early Wednesday, in the wake of the Cisco effect, was made worse following the Fed's release of its Beige Book. The Beige Book is in essence a nationwide survey of the economy that is released eight times per year. The Fed's report revealed further deterioration in the manufacturing segment of the economy, along with continued sluggishness in the retail sector. The latter of which is most disconcerting because the U.S. consumer has been adopted as the backbone of the economy. Even Chambers commented Tuesday night on the need for the U.S. consumer to continue spending in order for the economy to stay afloat. The Beige Book reported that weakness was seen across the broader spectrum of the retail sector, with discount merchants fairing marginally better. Furthermore, some reported that orders for inventory were running lower than last year due to lower forecasted demand during the holiday season.

The Beige Book's suggestion of a weakening consumer was enough to scare the bulls and inspire the bears Wednesday afternoon, which was part of the reason for the rapid sell-off across the broader market averages Wednesday. One needs only to look at an intraday chart of bond yields to gauge the rapid flight from equities following the release of the Beige Book. Granted, there was an $11 billion government offering of 10-year notes Wednesday that received the most investor interest witnessed in eight years. The demand for the new issue, in turn, precipitated a large short covering rally in bonds. And some of that capital to cover bonds could've come from the equity markets, exacerbating the slide in stocks. Moreover, the underlying theme of tame inflation as reported by the Fed also contributed to the rally in bonds and the inverse decline in yields.

With that all being the case, perhaps the most disconcerting aspect of the bond market rally Wednesday was that is suggested market participants are growing increasingly risk averse. (Of course that much is only disconcerting to the bulls in stocks.) Short covering, huge demand for new issues, and falling yields all point to market participants' preference for bonds over stocks, at least over the short-term.

On the other hand, the one positive that can be taken away from the Beige Book and, indeed, the bond market rally Wednesday is that inflation remains a moot point. And because of that along with the continued deterioration of the U.S. economy, the Fed may be more willing to lower rates beyond 3.5 percent, which seems to be the current consensus for the final resting place of Fed Funds during this cycle of benign monetary policy (Fed Funds are currently 3.75 percent). As we approach the August 21 meeting, the topic of further rate cuts could act as a catalyst. Then again, up until this point, the Fed - and its rate cuts - has been a moot point.

Investors' collective aversion to risks in equities was furthered with Merrill Lynch's downgrade of several European telecom carriers, including heavyweights Deutsche Telecom (NYSE:DT) and France Telecom (NYSE:FTE), both of which trade as American Depository Receipts (ADRs) on the NYSE. The downgrade, on top of the Cisco impact, resulted in continued selling in those stocks closely tied to the telecom business.

In other tech-related mishaps, Emulex's (NASDAQ:EMLX) warning Tuesday night impacted shares of data storage companies, ranging from the 600 lb gorilla in Emc (NYSE:EMC) to software maker Veritas (NASDAQ:VRTS). And Nortel announced after the bell that it would sell $1 billion in convertible notes, which should pressure shares as arbitrageurs take hold.

But not all news was of the negative nature Wednesday. Waste Management (NYSE:WMI) reported numbers that were more or less inline with estimates. Analysts voiced concerns over the impact of a slowing economy on Waste Management's revenue growth, which may have attributed to its shares modest dip. But I see an awful lot of those big green and yellow trucks driving around the streets of Denver, so maybe Waste Management will continue to deliver solid earnings. At any rate, its stock has performed relatively well recently, up about 30 percent from its April lows.

Despite the Beige Book's suggestion of a weakening consumer, there were a handful of retail stocks that reported otherwise. Land's End (NYSE:LE) recorded 10 cents per share in profits, while consensus estimates had the company pegged to earn 1 cent per share. The finished almost 5 percent higher. And, Ralph Lauren (NYSE:RL) reported numbers that were inline with estimates in addition to reaffirming its previous guidance. Shares of Ralph Lauren finished over 8 percent higher.

But despite the positive reports from the two aforementioned retailers, the Retail Sector Index (RLX.X) finished lower by more than 1 percent. In fact, of the 25 sectors I follow on a daily basis, only one finished in the green Wednesday: Gold and Silver Sector Index (XAU.X).

The widespread weakness across the vast majority of narrow based indexes caused the major market averages to fall below key support levels. For its part, the Dow closed below 10,300 and has support below around 10,230. The Nasdaq closed below the psychologically significant 2000 level, but bounced from its support zone around 1950. Traders will be watching that general area closely Thursday for further signs of weakness in the tech laden index. What's more, the internals of both the NYSE and Nasdaq markets echoed the negative price action of the indexes. And volume increased with Wednesday's weakness, which can be viewed as a cause for concern.

As Jim suggested Tuesday, the Nasdaq will remain in a basing mode as long as the 1950 level holds. And that in itself could be enough for the bears to capitulate. Otherwise, a retest of April's lows could be in the cards. Without a compelling reason to buy stocks, the market averages could be headed for further weakness in the short-term as the economy continues to churn through this period of post excess.

Eric Utley
Option Investor

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